1. Understanding
Portfolio Mathematics
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M LEARNING
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2. Concept of Expected Return of Portfolio
• Assume that you form a portfolio consisting two
securities A and B.
• E(RA) and E(RB) are the expected return on the security
A and B.
• There are two steps in computation of Expected Return
of Portfolio
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3. Example
• You have a portfolio consisting two securities. Reliance
Industries and Wipro Ltd. Assume that your investment
in Reliance is Rs 12000 and in Wipro is Rs 18000. You
estimate the expected return on these two stocks to be
10% and 15% respectively. Find the Expected Return of
the portfolio Portfolio Value : Rs 30,000
W(Reliance) = 40%
W(Wipro) = 60%
Expected Return on Portfolio =
.40 (10%) + 0.60 (15%) = 13%
Note : The portfolio weights are usually calculated on the basis of
market value of securities at the time the expected return of the
portfolio is computed.
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4. Expected Return on portfolio
consisting three securities
• Example
• Lets imagine a portfolio consisting three securities. Tech
Mahindra, NHPC and Kotak Bank. The total Investment
is Rs 25000, Rs 30000 and Rs 45000 respectively. The
expected return on each securities are 12.5%, 15% and
18% respectively. Find the Expected return on the
portfolio.
Ans : 15.725%
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5. Concept of Coefficient of
Correlation
• Its a statistical concept that captures the
extent of co-movement between pair of
variables.
• The relation between pair of variable can
be
– Positive : Two variable move together in same
direction.
– Negative : Two variable move in opp direction
– None : No pattern
Its value always lies between - 1 and + 1
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11. Why Correlation?
• Modern finance is based on the concept of diversification.
• When two investments move in the same direction, there is no
reduction in risk.
• If two investments have a negative correlation, downward
movement of one can be offset by upward movement in
another, thus creating a lower risk portfolio.
• Coefficient of Correlation is foundation of portfolio
diversification.
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12. Concept of Covariance
Its related with Correlation..
• Historical Data
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19. Example
Probability Distribution
Ans.
Covariance : 1.02700
Correlation : 0.30
SD (stock price) = 2.40260, SD (Earning) : 0.10735
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20. LearningMadeSimpleTM
Learning Made Simple is initiative taken by few people earlier
related to the Corporate World whose aim is to provide quality
education and training to those who wish to excel in their career
path. Learning Made Simple is an association who works on a no
profit no loss basis and provide training and development in the
era of Financial Planning, Financial Management, AMFI, NCFM,
Management Concepts, Soft Skills, Leadership, Personality
Development, Goal Setting, Marketing Management, Behavioral
Science, NLP and various other segments. You can get in touch
with us by sending email on kaushal@thefinancialplanners.in
